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Currency risk management

SWAPs

9.1 FOREX swaps

 Two parties agree to swap equivalent amounts of currency for a period and then
re-swap them at the end of the period at an agreed swap rate.

 The swap rate and amount of currency is agreed between the parties in
advance. Thus it is called a ‘fixed rate/fixed rate’ swap.

 The main objectives of a forex swap are:

– to hedge against forex risk, possibly for a longer period than is possible on
the forward market

– to access capital markets, in which it may be impossible to borrow directly.

 Forex swaps are especially useful when dealing with countries that have
exchange controls and/or volatile exchange rates.

9.2 Currency Swaps

 A currency swap allows the two counterparties to swap interest rate
commitments on borrowings in different currencies.

 In effect a currency swap has two elements:

– An exchange of principal in different currencies, which are swapped back
at the original spot rate

– An exchange of interest rates – the timing of these depends on the
individual contract.

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